ECB urges banks to clean up before next crisis

Daniele Nouy said that euro zone banks must clean up their balance sheets

Euro zone banks have made progress since the financial crisis, but must do more to put their houses in order during economic good times, European Central Bank watchdogs said today.

"Certain banks must do more. In particular, they must clean up their balance sheets," chief ECB supervisor Daniele Nouy said today in Frankfurt.

Top of the watchdogs' list is a €760 billion mass of bad loans that was still weighing on banks' balance sheets in the third quarter of 2017, a figure that had fallen by €200 billion over two years.

So-called non-performing loans - on which borrowers have failed to keep up with repayments - "drag down profits, they divert resources that could be put to more productive use, and they keep banks from financing the real economy," Nouy said.

"Banks should use the good times to reduce NPLs... once a downturn sets in, it will become much harder," she added.

For its part, the ECB will lay out more clearly how it expects banks to set aside cash to cover the risks of future bad loans in an update to its guidance.

With the banking sector more robust, plans to establish a euro zone-wide deposit insurance scheme known as EDIS could advance "a step further", Nouy continued.

The European Commission in Brussels is keen to push forward with the scheme, but governments and lenders in wealthier, more stable countries like Germany and the Netherlands fear they will end up on the hook for upsets in nations like Italy or Greece with higher debt levels.

Meanwhile, Daniele Nouy also said the European Central Bank's new rules forcing lenders to set aside more cash for loans that go unpaid may come into force on April 1 - three months later than originally planned.

Heavy criticism from southern nations forced the ECB to rethink its proposal and while no fundamental change in the proposal is likely, the ECB is expected to refine its text to fend off criticism.

Daniele Nouy said the new rules will be unveiled by mid-March and could become effective on the first day of the following month.

"I know that the date of first of April is a possibility but nothing yet has been decided," Nouy said today.

Sources close to the discussion had told Reuters that if the package comes into force from April 1, provisions would likely have to be built from the next accounting period, or mid-year for most.

Banks were sitting on €759 billion worth of soured debt at the end of the third quarter with banks in Italy, Greece, Ireland, Portugal and Slovenia struggling the most.

The proposal would give banks seven years to fully provision newly soured credit backed by collateral and two years for unsecured debt. But it would not affect already soured debt, which will be covered in a separate proposal.

As part of the clarification, the ECB will stress that the rules will be applied on a case-by-case basis and there will be no automatism to force provisioning, a move which could be seen as encroaching on regulatory or legislative prerogatives.

Bad debt weighs on banking balance sheets and holds back lending, countering the very stimulus the ECB is trying to provide with rock bottom interest rates.

But Nouy said banks are making progress, primarily because the ECB has been putting pressure on them.

"Indeed a number of banks are changing their policy using good times to do what they can do, more than they planned in the beginning," Nouy told a press conference. "This is what in my view good supervision is about."

Her deputy Sabine Lautenschlaeger stressed selling the unpaid loans was not the only was to achieve that and a good and efficient "work-out" process inside the bank was essential.